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US feds probe Digital Currency Group financial transfers to Genesis

Digital Currency Group (DCG) is being investigated by U.S. authorities for financial transfers between DCG and its Genesis Global subsidiary.

On Friday, Bloomberg reported that the Department of Justice (DoJ) and the Securities and Exchange Commission (SEC) were each probing DCG’s transactions with its Genesis digital trading, lending and custodial platform. Prosecutors in New York are reportedly seeking documents as well as interviews with staff. The DoJ is also looking to learn what DCG investors may have been told regarding the financial transfers.

The probes reportedly predate the November collapse of the FTX digital asset exchange. DCG boss Barry Silbert hasn’t commented on the report, but a spokesperson claimed to be unaware of “any Eastern District of New York investigation into DCG.” Genesis issued a statement saying only that it “cooperates with relevant regulators and authorities when it receives inquiries.”

Genesis got caught flat-footed following last summer’s bankruptcy of the Three Arrows Capital (3AC) crypto hedge fund, to which Genesis had lent $2.4 billion. Genesis claims 3AC put up 80% collateral for this loan but outsiders believe the collateral was more in the 50% range. In November, Genesis was hit again by the collapse of FTX, on which Genesis admitted having $175 million locked up, plus another $7 million with FTX’s affiliated market-maker Alameda Research.

These shortfalls required DCG to assume some of Genesis’s liabilities in the form of a $1.1 billion promissory note. Regardless, the Genesis lending platform halted withdrawals in November after its pursuit of “at least” $1 billion in new capital found no takers. Genesis hired ‘restructuring adviser’ Moelis & Company to mull all possible options, including filing for bankruptcy.

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That bankruptcy filing now looks almost inevitable, despite Genesis CEO Derar Islim issuing a note to clients on Wednesday that the company remained “focused on finding a solution for our borrowing and lending intermediation business and reaching the best outcome for all affected clients.”

Islim insisted that Genesis continues to believe that it can “arrive at a solution” to its cash crunch, including “reducing costs and driving efficiencies in all our business lines.” However, Islim warned that “this is a very complex process that will take some additional time.”

Islim also clarified that Genesis’s derivatives and spot-trading units “remain fully operational and are serving our clients’ trading needs as they always have.” Islim closed with a promise to continue offering clients a “white glove service,” which is really odd, because my proctologist always dons a blue rubber glove before violating my back passage.

Islim, who joined Genesis in May 2020, was appointed interim CEO last August after then-CEO Michael Moro stepped down in the wake of the 3AC debacle. At the rate things are going, the hunt for a permanent chief executive may turn into a snipe hunt.

DCG’s shrinking portfolio

On Thursday, The Information reported that DCG was shuttering its “life and wealth management membership platform” HQ Digital effective January 31. HQ Digital reportedly handled around $3.5 billion on behalf of its “digital asset entrepreneurs and investors,” many of whom are said to have been blindsided by the news. The HQ Digital website currently displays only a ‘welcome’ screen and an ‘about’ page that states “there are no current [job] openings.”

DCG issued a statement blaming “the state of the broader economic environment and the prolonged crypto winter presenting significant headwinds” as justification for euthanizing HQ, which launched last year despite looming signs that winter was coming. Ever the optimists, DCG claimed to be open to “potentially revisiting the project in the future.”

HQ Digital was a bit of a black box, making it hard to conclude how adroitly or ineptly it ‘managed’ the wealth of its investors. But given the general digital currency market downturn and the bad bets DCG has made in its other ventures, it could be that there’s some high net worth individuals feeling a little irate this morning.

Equally irate are the hordes of staff that learned Thursday that DCG no longer required their services. The Wall Street Journal reported that Genesis laid off 30% of its remaining staff this week. That follows a 20% staff cull last summer and leaves Genesis with only around 145 active employees.

A Genesis spokesperson told the WSJ that the “unprecedented industry challenges” plaguing the sector forced the company into “the difficult decision to reduce our head count globally.”

The math doesn’t add up

DCG’s current financial pressure could get exponentially worse if U.S. courts attempt to claw back pre-bankruptcy disbursements from FTX/Alameda so they can be fairly distributed to FTX customers.

Alameda repaid a $2.5 billion loan to Genesis in August, long past the point where Sam Bankman-Fried’s crypto empire began using customer funds to keep itself afloat. Regardless of whether Genesis was rightly owed that sum, the courts may face the thorny question of which bankrupt company’s customers have a more direct claim to make. If Genesis is forced to return even a portion of those funds, DCG only has a few cards it can play.

While DCG could unload its Foundry blockchain mining business or its Malaysian exchange Luno, that wouldn’t come close to honoring DCG’s roughly $2 billion in obligations, particularly with potential buyers skittish over crypto’s prolonged run of bad press. DCG’s only solvent asset of any real heft is the Grayscale ‘asset management’ business and its flagship Grayscale Bitcoin Trust (GBTC).

Some outside observers believe selling Grayscale might realize DCG around $1 billion, which wouldn’t be enough to cover DCG’s obligations. And the 2% annual fees that GBTC and Grayscale’s other trusts impose on their shareholders are believed to account for as much as 75% of DCG’s annual revenue. So honoring DCG’s debts in this fashion might leave Silbert with a slightly less-sullied reputation but it also means selling the family farm.

Lumida Wealth Management co-founder/CEO Ram Ahluwalia warned this week that the “curtains are closing” on DCG, particularly if the Alameda funds are clawed back. Ahluwalia noted a requirement in the Genesis Loan Agreements that the firm ‘represent to solvency,’ which may be why Silbert is so keen on framing Genesis’s woes as an issue of liquidity rather than insolvency. If Genesis were insolvent and continued taking deposits, investors could sue the firm for misrepresentation aka fraud.

Silbert hasn’t publicly commented on anything since his January 2 tweet pushing back against claims by Cameron Winklevoss, co-founder of the Gemini exchange and lending platform, that Silbert was ducking the Genesis creditors’ committee’s efforts to “resolve the liquidity issues at Genesis and DCG and provide a plan for the recovery of funds.” Winklevoss set a January 8 deadline for Silbert to “publicly commit to working together to solve this problem.” So far: crickets.

Yelling ‘fire’ in a crowded boardroom

While Silbert has nowhere to go (but down), other crypto execs in this tangled web appear ever more eager to cut and run. Former U.S. Treasury secretary Larry Summers, who joined DCG as a senior adviser and board member in 2016, reportedly ditched DCG as it became apparent that the company isn’t long for this world. The specific timing of Summer’s exit is a bit of a mystery, but he appears to have bailed within the last two months.

Meanwhile, over at Gemini, COO Noah Perlman has submitted his walking papers. Perlman joined Gemini in 2019 from Morgan Stanley, where he served as Global Head of Financial Crimes. Neither Perlman nor Gemini has publicly commented on the reasons for his exit.

In November, Perlman was revealed to also serve on the board of Farmington State Bank, which rebranded as Moonstone last year following its 2020 acquisition by FBH Corp. FBH is run by Jean Chalopin, who also runs the Bahamas-based Deltec Bank & Trust. Deltec’s customers included FTX/Alameda, as well as the company behind both the controversial Tether stablecoin and the equally controversial Bitfinex exchange. (Lie down with dogs…)

It was later revealed that Alameda had invested $10 million in Farmington/Moonstone, for reasons that remain unclear but clearly had something to do with Alameda’s eagerness to retain access to the U.S. banking system to keep U.S. customer deposits coming.

Moonstone’s chief digital officer (and Jean’s son) Janvier Chalopin subsequently claimed that Perlman agreed to serve on the bank’s board based on “the vision we have for the digital bank we’re developing.” However, Perlman never listed this board seat on his curriculum vitae, suggesting he only expressed his enthusiasm about Moonstone’s vision in certain circles.

Digital conspiracy group

The U.S. Department of Justice is likely pressing former Alameda CEO Caroline Ellison and other cooperating witnesses for details on how Moonstone fit in to SBF’s conspiracy to defraud, well, everyone. But given SBF’s seat on Genesis’s board of directors and Alameda’s apparent willingness to repay that $2.5 billion loan to Genesis despite SBF’s own financial shortfalls, the DOJ may well be interested in hearing what Silbert knew and when he knew it.

Then there’s the dramatic accusations by 3AC’s disgraced founders Zhu Su and Kyle Davies, who, despite remaining fugitives from justice after their own fraud was exposed, resurfaced in the wake of FTX’s implosion trying to rebrand themselves as saintly whistleblowers.

The pair have made dramatic assertions regarding an alleged conspiracy of SBF and Silbert to manipulate the Luna/UST token pair for their own financial gain. The New York Times reported in December that the DoJ is indeed investigating SBF for potentially manipulating the Luna/UST market to benefit FTX/Alameda, with SBF apparently not recognizing that doing so might push 3AC over the edge and kick off the current market turmoil that led directly to his own downfall.

Whether or not there’s any fire behind all this smoke, Silbert will likely be called in to offer his version of events. At this rate, Silbert must be sitting around, watching the walls close in around him, wondering why this Year of the Rabbit turned into Night of the Lepus.

Follow CoinGeek’s Crypto Crime Cartel series, which delves into the stream of groups—from BitMEX to Binance, Bitcoin.com, Blockstream, ShapeShift, Coinbase, Ripple, Ethereum, FTX and Tether—who have co-opted the digital asset revolution and turned the industry into a minefield for naïve (and even experienced) players in the market.

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